Markets @ Bidvest Bank - 28 July 2014

Fundamentals:

US:
• Plenty of data scheduled for release today in the form of the Markit PMI data, pending home sales and the Dallas Fed manufacturing data. Whilst the services PMI is expected to lose some of its shine but remain firmly positive, the pending home sales data is expected to turn slightly less negative in y/y terms, whilst the Dallas manufacturing data is anticipated to improve. On aggregate, the data is expected to support expectations for a general strengthening in the cyclical upswing.
• The FOMC meeting will be the key point of focus this week, with the policy decision due on Wed and likely to see another $10bn taper of monthly QE. The greater focus will be on the post-decision statement as the market looks to gather insight on the bank’s interpretation of the latest firming in labour market data. This will give context to the GDP and payrolls data due later in the week and with the risk tilted towards a further gradual pricing up of Fed rate hike expectations for 2015.
UK:
• RBS has posted a surprise Q2 pre-tax profit of GBP1bn which has far exceeded expectations and raised the prospect of an earlier exit for government of its shareholding. Tax payers, who own some 80% of the company, are still sitting on a paper loss of nearly GBP12bn, but given this profit, a rally in the share price could help minimise those losses and bolster the fiscus.
• With this being a quiet data week it is worth recapping that the UK’s GDP has finally pushed past the peak of the previous boom six years ago. The Q2 GDP data was as expected expanding 0.8% on the quarter.
Asia:
• Chinese industrial profit growth witnessed a rapid acceleration to 17.9% y/y in June vs. 8.9% y/y in May, further raising prospects that the country has emerged from and economic soft patch. June’s growth marked the strongest since October 2013 and suggests that targeted measures by govt. are having the desired effect. Upbeat Chinese data mirrored in strong equities into the start of the new week.
• A particularly quiet start to the new week ahead of a deluge of data tomorrow, including retail trade sales, which will be watched closely to gauge whether the April sales tax hike continues to impede on final demand. Abenomics remains under scrutiny and the latest Nikkei opinion poll suggests that Abe’s cabinet public approval rate has fallen below 50%.
EU:
• A quiet data day today out of the EZ with arguably the most significant release being the Italian business confidence index which is expected to dip a little further. Nothing particularly market moving to cover however and direction will likely flow from geopolitical developments.
• French unemployment has dealt French PM Hollande another blow as it rose to yet another record high after it grew by 4% on the year. The total no of people registered as unemployed now stands at nearly 3.4mln.
• Money supply data showed some signs of hope for the ECB as money supply grew at 1.5% y/y in June up from the 1.0% in May. Credit extended to the private sector fell 1.7% in June slightly less negative than the 2.0% contraction in May. Slight improvement, but a lot more needed.

Developments worth noting:
• It will be a quiet start to the week on the data front today, suggesting the potential for low volumes as we gear up for the key US data and events to be seen in the remainder of the week. These will be events that will undoubtedly have market-moving potential with the first to be discussed being that of the FOMC policy decision on Wed. Markets are looking to see the Fed’s interpretation of the latest round of jobs data which showed headline payrolls growth of 288k and an unemployment rate of 6.1%. Chairwoman Yellen said in recent weeks that a continued improvement in labour market data would warrant a sooner than anticipated rise in interest rates, but is not committed to raising rates rather than managing expectations in a way that would allow it do so without a shock reaction should the time come.
• As a result there is still a cautious pricing up of rate hike potential, as is evident the Dec 2015 Fed funds future hovering near its recent highs above 0.70% but not gaining significant upward traction. There will however be no press conference attached to this Fed meeting, which means that all attention will be on its post-decision statement. This also puts added emphasis on the US data surrounding the meeting as a guide for the type of commentary to emerge from the Fed in the month going forward, data including the advance Q2 GDP (Wed), non-farm payrolls (Fri) and the ISM manufacturing PMI (Fri). Further strong readings would not only help to justify the elevation of US stock prices which are already being supported by an upbeat Q2 earnings season, but also the elevation of the Fed funds futures which have driven the dollar index up to early Feb highs.
• One also needs to take account of the strong rally currently being seen on the Shanghai composite (+2.4% today, +6.0% on the week) as Chinese growth sentiment takes a positive turn. Chinese money supply and credit growth has been accelerating as policymakers have pushed back against the prior slowdown, and we have started to see forward-looking gauges such as the HSBC manufacturing PMI start to react positively. This will have an impact on global growth sentiment and is a consideration for EMs such as South Africa which are reliant on trade flows with the Asian giant. SA trade data is due this week but it may take some time for this to filter through to local data.
Data/Events for the next week:
• The local data week kicks off through tomorrow’s money supply and credit data for Jun, which is expected to continue to show a sideways trend. Note that Jun is a seasonal surplus month for the government budget and that the trend of worsening dynamics on a y/y basis should be referred to leading up to the Medium-Term Budget in Oct. The same principle applies to the view on the trade account with the twin deficits still representing a point of rand fragility as ratings agencies keep a close eye on the deterioration.
• The bulk of the attention rests with the US globally this week, with Q2 GDP data and the FOMC decision on Wed, followed by the non-farm payrolls and ISM manufacturing PMI on Fri. The labour market last recorded monthly job gains of some 288k alongside an unemployment rate of 6.1% and further improvement here is expected to be reflected in stronger optimism in Fed policy statements. Rate hikes are still seen as fairly far off, with the Fed still managing expectations toward a very gradual easing out of its ultra-accommodative stance.

Trade Weighted ZAR:

• The trade-weighted rand is now trading back in positive territory for the year, up some 0.4% year-to-date after having posted a strong performance in recent weeks gone by. The rand was last in this positive year-to-date position in May, but failed to hang onto its resilience as local fundamentals began to take a stronger focus. However, when comparing back to May there is a notable difference to be pointed out. The rand is not trading as firmly as it was against the dollar now that US rate hike expectations have risen modestly to give support to the greenback, but its performance against the likes of the EUR and GBP has improved.
• Considering why this is the case, one should note that the market has priced in an increasing divergence between ECB and Fed monetary policy. Although at risk of becoming stretched, this divergence in expectations is set to hold for a while longer as the US experiences a stronger cyclical upswing and as the ECB attempts to weaken its currency so as to lend support to the export side of its economy. The fact that the rand has been able to gain in the short term despite the dollar rebound is a testament to the levels of risk appetite still doing the rounds, as from a more holistic perspective the major central banks are still very accommodative in their policy stances.
• Amidst better levels of risk appetite the rand often proves to be a short-term outperformer but we must remind readers that the local currency has shown an increased tendency to fail to hang onto periods of resilience and suffer stronger periods of weakening than strengthening. This is because of weak underlying fundamentals which again are expected to come to light through the trade and government budget numbers this week, as well as through growth readings including the Kagiso PMI and Naamsa vehicle sales. The trend on the government budget remains worrying amidst a deterioration in growth and this raises the risk that rand strength again proves fleeting in coming months, especially under conditions of a stronger dollar.

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